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Wednesday, August 02, 2006

Investing in Water: Aqua America

Today, Aqua America (WTR) is trading up 3.8% at $22.35 after it posted above-estimate earnings. It posted EPS of $0.17 versus $0.16 estimates and posted revenues of $131.7 million versus estimates of about $129 million.

WTR also voted to increase the quarterly common stock cash dividend to shareholders by eight percent to $0.115 per share to an annualized rate of $0.46 per share. That looks to be 8 consecutive years of dividend hikes.

The company grew 7% year over year and said this was due to higher population growth in its markets and due to rate increases. Look at its pipeline, no pun intended. On June 22, the Pennsylvania PUC awarded the company's Aqua Pennsylvania subsidiary, a nine percent increase in base rates for its largest subsidiary equating to $24.9 million in annualized revenues. This increase supposedly alleviates a lag that had been impacting the subsidiary's earnings over the past several quarters. Rate awards were also granted in July for five divisions in Maine for $539,000 and for the Sarasota division in Florida for $429,000. Other rate awards are expected for New Jersey, Illinois, Florida, Virginia and Missouri over the next six months.

Aqua America completed nine acquisitions of both water and wastewater systems and added one new septage hauling company in the first half of 2006. The company also announced agreements to purchase the Village of Manteno water system, a municipal water system in Illinois with approximately 3,300 customers, and New York Water Service Corporation, which serves approximately 45,000 customers in Long Island, New York. The acquisition of New York Water Service is expected to close by the end of the year and will add 5% to its base upon closure.

Its expenses have increased with every other segment in the economy, and that looks to be factored in as far as the street is concerned. Operations and maintenance expenses increased 9% for the second quarter 2006 compared to the second quarter of 2005, primarily due to the impact of double-digit increases in water production costs (power, transportation, chemicals) that are being driven up by the continuing rise in oil and gas prices. Additionally, stock options were expensed, an 18 percent of the total increase in operations and maintenance expenses. The company also saw large year over year increases during the second quarter in depreciation expense (18 percent) and interest expense (18 percent), both as a result of record capital investment made by the company on needed infrastructure improvements and the increases in interest rates this past year. The company expects many of these expenses to be fully recoverable in rates.

The company offered no formal guidance. It looks like the street is rewarding this company for properly managing expenses in a higher cost environment and of course for exceeding expectations. It said that a wetter spring may have held back some results, so we'll have to see what they say about a hot dry spell starting the quarter. It serves over 2.5 million people in a broadly diversified lineup of states such as: Pennsylvania, Ohio, North Carolina, Illinois, Texas, New Jersey, Florida, Indiana, Virginia, Maine, Missouri, New York, and South Carolina.

On the surface this company seems relatively expensive. It has a 30+ P/E. Its forward analyst estimates give it a 2006 forward P/E of 29.3 and a forward P/E for 2007 of 26.4, assuming it meets EPS estimates. The analysts are mostly in favor of the company, but we'll have to see what they say after they are finished with their research reports after the conference call. Most of the research calls should be out later today or tomorrow.

The reason this stock is expensive is because the company has a diversified client base without too much exposure in any single geographic area. The other reason that this has a premium to the market is that it is water, the most essential part of life and deemed a large growth area for the future. Most water companies have essential monopolies in their markets as well. The other publicly traded water companies also tend to have a more concentrated geographic area.

While the stock seems high as far as market multiples, the shares are down 32% from the 52-week high of $29.79 seen in February to March of this year. So far the street like the report, so we'll have to see if anyone brings up the valuation card.

Jon C. Ogg
August 2, 2006

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